Software Firm Says It Is Ready to Disrupt DC Industry

Software
developer NextCapital Group says it is building digital portfolio management and
advice delivery tools that have the potential to reshape the defined
contribution (DC) retirement plan industry.

NextCapital Group (formerly Business Logic) says it is
leveraging a combined $6 million in new venture capital funding, mainly from
Russell Investments and the Transamerica Ventures Fund, to continue development
on automated portfolio management technologies it hopes will someday replace
traditional target-date funds (TDF) with inexpensive managed accounts. The goal
of the venture investment, according to Russell and Transamerica, is to “shake
up the $700 billion [TDF] market and bring managed account advice to anyone
with a defined contribution plan.”

The firms tell PLANADVISER that pending technologies from
NextCapital Group will allow their asset management businesses to deliver
personalized, professionally managed, institutional-caliber 401(k) portfolios at about
half the cost of traditional managed account arrangements. According to
NextCapital Group, these digital managed accounts will automatically collect individual
investors’ demographic data to create and regularly rebalance highly customized
portfolios that take the place of TDFs or traditional managed accounts on the DC
plan’s investment menu.

The digitally enabled managed accounts can be optimized for
use as a DC plan’s qualified default investment alternative (QDIA), explains
Dirk Quayle, president of NextCapital Group. He adds that the pricing will “vary depending on the specific provider and arrangement, but it will look
much more like a traditional TDF than a traditional managed account in terms of price.

“We developed this defined contribution managed account software platform over many years, with tens of millions of dollars invested,” Quayle tells PLANADVISER. “In the distant
past, we had a relationship with Ibbotson Associates, which you know is now part
of Morningstar. When that relationship broke up, we decided to shift our
efforts so the system would be more open and could work with more investment
methodologies. This round of funding is the next step in that effort.”

Quayle says the NextCapital technology innovations will allow
for the efficient mass delivery of different investment methodologies as
managed accounts, whether from Russell or Transamerica or another investment services
provider. He says plan sponsors will be able to work directly with providers to
establish digitally enabled managed accounts on their plan’s investment menu—but
the tools will also be available for use by specialist retirement advisers in value-add efforts.

For example, if a plan adviser has spent significant time and
effort developing a lineup of funds tailored for a specific plan, NextCapital’s
technology can then help this adviser efficiently build and manage individual
participant portfolios that effectively allocate assets across the lineup, all based
on individual participant needs.

“We
are hoping to answer the question of how you set up an adviser to wake up every
day and look across thousands of plans and hundreds of thousands of
participants, and take note of where someone has an inappropriate allocation, or
where another corrective action is necessary,” Quayle explains. “We’re
basically taking their investment methodology, and we are helping the adviser push
it out far more quickly and cost effectively to the individual participants.”

As explained by Quayle, the NextCapital digital managed
account platform can be tailored to fit different regulatory frameworks within
which managed accounts can be established—namely under the Pension Protection Act
or the Sun America Opinion, which helped establish
the regulatory framework necessary for managed accounts. Before the
SunAmerica opinion, advisers lacked key protections and many hesitated to offer
true investment “advice” to retirement plan participants covered by the
Employee Retirement Income Security Act (ERISA)—opting instead to provide
non-discretionary “education.”

Quayle says earlier versions of the portfolio management
technologies already serve more than 500,000 retirement plan participants with
over $70 billion in assets. For example, NextCapital Group’s solutions already
underlie Russell’s Adaptive Retirement Accounts (ARAs), which are personalized
managed account products that utilize customized asset allocations based on
participant information including age, gender, salary, current account balance and other factors. The ARAs undergo automatic quarterly allocation adjustments
to increase the probability of participants reaching their savings and
retirement income goals, according to Russell (see “Russell
Brings Together TDFs and Managed Accounts”).

Josh Cohen, managing
director and head of institutional defined contribution at Russell, says his
firm hopes the additional investment with NextCapital will result in continuing
innovating in areas such as account aggregation, automatic salary deferral
escalation and portfolio decumulation. These are important pieces of managed
account services, he explains, which have not yet seen sufficient technical
development or automation.

In addition to Transamerica Ventures Fund and Russell
Investments, other investors in NexCapital Group are FinTech Collective,
Kelvingrove Ventures and the Vermont Seed Capital Fund. Georg Schwegler, CEO of
Transamerica Ventures Fund, says his firm is also “excited about the prospects
for a NextCapital partnership in the 401(k) market.”

“Billions
of dollars are withdrawn from retirement accounts each year,” Schwegler
explains. “Increasingly, asset management firms such as Transamerica want to be
in a strong position to manage the assets of customers who have accumulated
retirement savings through products offered by their other lines of business.
NextCapital’s investor dashboard—coupled with its in-plan managed accounts—will
enhance Transamerica’s ability to roll customers’ 401(k) plan assets into a
reliable income stream throughout an increasingly longer retirement.”

Both Cohen and Quayle said they have heard about a pending
patent infringement lawsuit that could potentially impact digitally enabled
managed accounts—but neither would comment on whether patent-related concerns could
derail this type of technology innovation.

In short, a patent suit filed by GRQ Investment Management claims Financial Engines (a well-known provider of digital managed accounts) violated two patents its holds, numbered 7,120,600 and 8,229,825, by “making, using, selling, offering to sell, and/or importing,
without license, directly or through its customers, managed account services,
such as its Personal Asset Manager Program or customer programs such as the
Vanguard Personal Online Advisor, Vanguard Managed Account Programs.”

Another potentially infringing service from Financial
Engines listed in the complaint is the Financial Engines’ Income+ product,
which provides a computer-based method of providing distribution
recommendations from an investment account to a retirement plan investor (see “Financial
Engines Accused of Patent Infringement”). Financial Engines tells PLANADVISER
that it “intends to vigorously defend these allegations.”

More
information on the partnership and technology offerings is available at www.NextCapital.com.